Concept
What is a return-of-capital distribution?
Direct answer A fund payout that exceeds the fund's earnings for the year. It is not taxed when received; instead it reduces your cost basis by the same amount (IRC §301(c)(2)). Once basis reaches zero, further payouts are capital gains. The tax is deferred to the sale, not removed.
Option-income funds that pay a fixed monthly target often classify most of the payout this way. At a 14% payout a lot’s basis is gone in about seven years. Read return of capital is a deferral, not an exemption.
Sources
- IRC §301(c)law.cornell.edu
- NEOS, return of capital distributions in option-writing ETFsneosfunds.com